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There seems to be a lot of chatter still over whether this should be a Credit Event or not. As strange as it may seem, it shouldn’t be, because it is very difficult to determine why someone may agree to an exchange that they are not contractually forced into.

If the banks announced that they were going to exchange their old bonds, for new bonds with a longer maturity and a lower coupon, but were going to get perfected security interest in assets (such as gold) that covered their notional exposure, would anyone think that should be a Restructuring Credit Event? Xerox restructuring was a situation where banks renegotiated their loans and got security. That (at least initially) led to some banks triggering their CDS. They got to settle against senior unsecured bonds (which had become effectively subordinated). The banks won on their loans and on their hedges. That is the problem with letting voluntary restructurings trigger Credit Events.

It basically became easier for the market to rule out any “voluntary” events because it would be impossible to know what potential benefit a holder received from doing the trade. If an investor can’t be forced by the terms of the indenture to go along with someone else’s vote, it means they made the decision “voluntarily”. You don’t have to worry about if they did a side deal to get some benefit. It doesn’t matter what that other entity negotiated since it didn’t affect your position. You are in control of your own asset.

Maybe it will turn out that banks that participate have been promised preferential treatment by regulators or that they will get even more free loans. Who knows. All you can know is that no bank is getting “exchanged” just because some percentage of other banks agreed to an “exchange”. Each in theory could choose not to exchange and suffer the consequences – which in this case I assume is the threat of heightened regulatory scrutiny and less access to all the neat little programs available. The banks each get to make their own decision. Period. That is not a Restructuring Credit Event.

Where Greek CDS settles in after the IIF program and participation rate become clear will be a function of the new bonds and how many legacy bonds remain.

I think this is very bad for bank hedging desks because investors will no longer care about net exposures, they will just want to know about gross exposures. Today, in the thrill of the moment, no one cares, but the next time Italy has a problem, people may care and won’t give banks the benefit of the doubt for their hedges.

So, legally I don’t think it is a Credit Event, and I don’t think the intention was for a voluntary restructuring ever to be a Credit Event, because you could never get fully comfortable what benefits the investor might be getting.